5

Capacity Planning
For Products and Services
 Learning Objectives
 Explain the importance of capacity
planning.
 Discuss ways of defining and measuring
capacity.
 Describe the determinants of effective
capacity.
 Discuss the major considerations related to
developing capacity alternatives.
 Briefly describe approaches that are useful
for evaluating capacity alternatives
5-2
 Capacity Planning
 Capacity is the upper limit or ceiling on
the load that an operating unit can
handle.
 Capacity also includes
 Equipment
 Space
 Employee skills
 The basic questions in capacity handling
are:
 What kind of capacity is needed?
 How much is needed?
 When is it needed? 5-3
 Importance of Capacity Decisions

1. Impacts ability to meet future demands

2. Affects operating costs
3. Major determinant of initial costs
4. Involves long-term commitment
5. Affects competitiveness
6. Affects ease of management
7. Globalization adds complexity
8. Impacts long range planning

5-4
 Capacity
 Design capacity
 maximum output rate or service capacity an
operation, process, or facility is designed for
 Effective capacity
 Design capacity minus allowances such as
personal time, maintenance, and scrap
 Actual output
 rate of output actually achieved--cannot
exceed effective capacity.

5-5
 Efficiency and Utilization
Actual output
Efficiency =
Effective capacity

Actual output
Utilization =
Design capacity

Both measures expressed as percentages

5-6
 Efficiency/Utilization Example
Design capacity = 50 trucks/day
Effective capacity = 40 trucks/day
Actual output = 36 units/day

Actual output = 36 units/day

Efficiency = =
90%
Effective capacity 40 units/ day

Utilization = Actual output = 36 units/day

=
72% Design capacity 50 units/day

5-7
 Determinants of Effective
Capacity
 Facilities
 Product and service factors
 Process factors
 Human factors
 Policy factors
 Operational factors
 Supply chain factors
 External factors

5-8
 Strategy Formulation
 Capacity strategy for long-term demand
 Demand patterns
 Growth rate and variability
 Facilities
 Cost of building and operating
 Technological changes
 Rate and direction of technology changes
 Behavior of competitors
 Availability of capital and other inputs
5-9
 Key Decisions of Capacity
Planning
1. Amount of capacity needed
• Capacity cushion (100% - Utilization)
2. Timing of changes
3. Need to maintain balance
4. Extent of flexibility of facilities

Capacity cushion – extra demand intended to

offset uncertainty

5-10
 Steps for Capacity Planning
1. Estimate future capacity requirements
2. Evaluate existing capacity
3. Identify alternatives
4. Conduct financial analysis
5. Assess key qualitative issues
6. Select one alternative
7. Implement alternative chosen
8. Monitor results

5-11
 Forecasting Capacity
Requirements
 Long-term vs. short-term capacity needs
 Long-term relates to overall level of capacity
such as facility size, trends, and cycles
 Short-term relates to variations from
seasonal, random, and irregular fluctuations
in demand

5-12
 Calculating Processing
Requirements
S ta n d a rd
Annual p r o c e s s in g tim e P r o c e s s in g tim e
P ro d u c t D em and p e r u n it ( h r .) n e e d e d (h r.)

#1 400 5 .0 2 ,0 0 0

#2 300 8 .0 2 ,4 0 0

#3 700 2 .0 1 ,4 0 0
5 ,8 0 0

If annual capacity is 2000 hours, then we need three machines to handle the
required volume: 5,800 hours/2,000 hours = 2.90 machines

5-13
 Planning Service Capacity
 Need to be near customers
 Capacity and location are closely tied
 Inability to store services
 Capacity must be matched with timing of
demand
 Degree of volatility of demand
 Peak demand periods

5-14
 In-House or Outsourcing
Outsource: obtain a good or service
from an external provider

1. Available capacity
2. Expertise
3. Quality considerations
4. Nature of demand
5. Cost
6. Risk

5-15
Developing Capacity Alternatives
• Design flexibility into systems
• Take stage of life cycle into account
• Take a “big picture” approach to capacity
changes
• Prepare to deal with capacity “chunks”
• Attempt to smooth out capacity
requirements
• Identify the optimal operating level

5-16
 Bottleneck Operation
Figure 5.2 Bottleneck operation: An operation
in a sequence of operations whose
10/hr capacity is lower than that of the
Machine #1 other operations

10/hr
Machine #2
Bottleneck 30/hr
Operation
Machine #3
10/hr

Machine #4 10/hr

5-17
 Bottleneck Operation

Bottleneck

Operation 1 Operation 2 Operation 3

10/hr.
20/hr. 10/hr. 15/hr.

Maximum output rate

limited by bottleneck

5-18
 Economies of Scale
 Economies of scale
 If the output rate is less than the optimal level,
increasing output rate results in decreasing
average unit costs
 Diseconomies of scale
 If the output rate is more than the optimal
level, increasing the output rate results in
increasing average unit costs

5-19
 Optimal Rate of Output
Figure 5.4
Production units have an optimal rate of output for minimal cost.
Average cost per unit

Minimum average cost per unit

Minimum
cost

0 Rate of output

5-20
 Economies of Scale
Figure 5.5
Minimum cost & optimal operating rate are
functions of size of production unit.
Average cost per unit

Small
plant Medium
plant Large
plant

0 Output rate

5-21
 Evaluating Alternatives
 Cost-volume analysis
 Break-even point
 Financial analysis
 Cash flow
 Present value
 Decision theory
 Waiting-line analysis

5-22
 Cost-Volume Relationships
Figure 5.6a

FC
+
Amount ($)

VC C )
t = t (V
s o s
co c
tal bl e
To a r i a
l v
ta
To
Fixed cost (FC)

0
Q (volume in units)

5-23
 Cost-Volume Relationships
Figure 5.6b

ue
en
Amount ($)
ev
l r
t a
To

0
Q (volume in units)

5-24
 Cost-Volume Relationships
Figure 5.6c

u e
e n f i t
Amount ($)

e v r o
r P
a l t
t o s
To t a l c
To

0 BEP units
Q (volume in units)

5-25
 Assumptions of Cost-Volume
Analysis
1.One product is involved
2.Everything produced can be sold
3.Variable cost per unit is the same
regardless of volume
4.Fixed costs do not change with volume
5.Revenue per unit constant with volume
6.Revenue per unit exceeds variable cost
per unit

5-26
 Financial Analysis
 Cash Flow - the difference between
cash received from sales and other
sources, and cash outflow for labor,
material, overhead, and taxes.
 Present Value - the sum, in current
value, of all future cash flows of an
investment proposal.

5-27
 Decision Theory
 Helpful tool for financial comparison of
alternatives under conditions of risk or
uncertainty
 Suited to capacity decisions

5-28
 Waiting-Line Analysis
 Useful for designing or modifying service
systems
 Waiting-lines occur across a wide variety of
service systems
 Waiting-lines are caused by bottlenecks in
the process
 Helps managers plan capacity level that will
be cost-effective by balancing the cost of
having customers wait in line with the cost of
additional capacity
5-29
Location Planning
and Analysis
 Learning Objectives
 List some of the main reasons organizations need
to make location decisions.
 Explain why location decisions are important.
 Discuss the options that are available for location
decisions.
 Describe some of the major factors that affect
location decisions.
 Outline the decision process for making these
kinds of decisions.
 Use the techniques presented to solve typical
problems.
5-31
 Need for Location Decisions

 Marketing Strategy
 Cost of Doing Business
 Growth
 Depletion of Resources

5-32
 Nature of Location Decisions
 Strategic Importance of location decisions
 Long term commitment/costs
 Impact on investments, revenues, and operations
 Supply chains
 Objectives of location decisions
 Profit potential
 No single location may be better than others
 Identify several locations from which to choose
 Location Options
 Expand existing facilities
 Add new facilities
 Move

5-33
 Making Location Decisions
 Decide on the criteria
 Identify the important factors
 Develop location alternatives
 Evaluate the alternatives
 Identify general region
 Identify a small number of community
alternatives
 Identify site alternatives
 Evaluate and make selection

5-34
 Location Decision Factors
Community
Regional Factors Considerations

Multiple Plant Site-related

Strategies Factors

5-35
 Regional Factors

 Location of raw materials

 Location of markets
 Labor factors
 Climate and taxes

5-36
 Community Considerations
 Quality of life
 Services
 Attitudes
 Taxes
 Environmental regulations
 Utilities
 Developer support

5-37
 Site Related Factors

 Land
 Transportation
 Environmental
 Legal

5-38
 Multiple Plant Strategies
 Product plant strategy
 Market area plant strategy
 Process plant strategy

5-39
 Service and Retail Locations
 Manufacturers – cost focused
 Service and retail – revenue focused
 Traffic volume and convenience most important
 Demographics
 Age
 Income
 Education
 Location, location, location
 Good transportation
 Customer safety
5-40
 Comparison of Service and
Manufacturing Considerations

Manufacturing/Distribution Service/Retail

Cost Focus Revenue focus

Transportation modes/costs Demographics: age,income,etc

Energy availability, costs Population/drawing area

Labor cost/availability/skills Competition

Building/leasing costs Traffic volume/patterns

Customer access/parking

5-41
 Trends in Locations
 Foreign producers locating in U.S.
 “Made in USA”
 Currency fluctuations
 Just-in-time manufacturing techniques
 Microfactories
 Information Technology

5-42
 Global Locations
 Reasons for globalization
 Benefits
 Disadvantages
 Risks
 Global operations issues

5-43
 Globalization
 Facilitating Factors
 Trade agreements
 Technology
 Benefits
 Markets
 Cost savings
 Legal and regulatory
 Financial

5-44
 Globalization
 Disadvantages
 Transportation costs
 Security
 Unskilled labor
 Import restrictions
 Criticisms
 Risks
 Political
 Terrorism
 Legal
 Cultural
5-45
Foreign a. Policies on foreign ownership of production facilities
Government Local Content
Import restrictions
Currency restrictions
Environmental regulations
Local product standards
Liability laws
b. Stability issues
Cultural Living circumstances for foreign workers / dependents
Differences Religious holidays/traditions
Customer Possible buy locally sentiment
Preferences
Labor Level of training and education of workers
Work ethic
Possible regulations limiting number of foreign employees
Language differences
Resources Availability and quality of raw materials, energy,
transportation infrastructure

5-46
 Evaluating Locations

 Cost-Profit-Volume Analysis
 Determine fixed and variable costs
 Plot total costs
 Determine lowest total costs

5-47
 Location Cost-Volume Analysis
 Assumptions
 Fixed costs are constant
 Variable costs are linear
 Output can be closely estimated
 Only one product involved

5-48
 Example 1: Cost-Volume Analysis

Fixed and variable costs for

four potential locations
L o c a tio n F ix e d V a r ia b le
C o s t C o s t
A $ 2 5 0 ,0 0 0 $ 1 1
B 1 0 0 ,0 0 0 3 0
C 1 5 0 ,0 0 0 2 0
D 2 0 0 ,0 0 0 3 5

5-49
 Example 1: Solution

F ix e d V a r ia b le T o ta l
C o s ts C o s ts C o s ts

A $ 2 5 0 ,0 0 0 $ 1 1 (1 0 ,0 0 0 ) $ 3 6 0 ,0 0 0
B 1 0 0 ,0 0 0 3 0 (1 0 ,0 0 0 ) 4 0 0 ,0 0 0
C 1 5 0 ,0 0 0 2 0 (1 0 ,0 0 0 ) 3 5 0 ,0 0 0
D 2 0 0 ,0 0 0 3 5 (1 0 ,0 0 0 ) 5 5 0 ,0 0 0

5-50
 Example 1: Solution
$(000)
800 D
700
600 B
500 C
400 A
300 A Superior
200 C Superior
100 B Superior
0
0 2 4 6 8 10 12 14 16

Annual Output (000)

5-51
 Evaluating Locations
 Transportation Model
 Decision based on movement costs of raw
materials or finished goods
 Factor Rating
 Decision based on quantitative and
qualitative inputs
 Center of Gravity Method
 Decision based on minimum distribution
costs

5-52